Venezuela: Operating environment set to worsen across 2016

11 May 2016

Recent riots over food shortages and the introduction of electricity rationing underline how the government’s perennial mismanagement of the economy are intensifying difficulties facing commercial operators in Venezuela.

As well as food and power shortages, rapidly increasing levels of inflation and limited access to dollars will continue to present major financial challenges and will see more foreign companies suspend or limit their Venezuelan operations.

The strong divisions between the executive and opposition-controlled legislature will hinder any political effort to address these problems in the short-term, while the prospect of a debt default later in the year further increases uncertainty for commercial operators in the country.

Political paralysis

The political stalemate that stems from divisions in the Venezuelan government will likely continue through 2016 and block necessary economic reforms. Since the opposition Democratic Unity Roundtable (MUD) coalition won a majority in the December 2015 parliamentary elections, their attempts to pass legislation - including a constitutional amendment to shorten the presidential term until 2017 - have been overturned by the Supreme Court, which is closely aligned to the president. In February, the Supreme Court also overturned parliament’s attempt to revoke the economic state of emergency declared in January, a measure that increased state control over businesses and limited currency flows.

Opposition efforts to oust President Maduro through a recall referendum would mark a major political shift in Venezuela if successful, but the protracted process, which has already met resistance from the ruling party and the National Electoral Board (CNE), will not alter the short-term outlook for the economy. After almost two months of stalling by the CNE, the opposition received the documents required to begin the recall process in late April, and delivered 1.85 mn signatures to the CNE in early May. The CNE must now validate these signatures before the opposition is permitted to collect the further 4 mn signatures necessary to trigger a vote. Presidential elections will then be called if more than 7.6 mn people vote in favour of the recall referendum, which the opposition expects to be held in November or December. Crucially, if the vote is not held this year, a successful recall vote in 2017 would not trigger new elections, but rather would see Maduro replaced by Vice President Aristóbulo Istúriz, thereby prolonging PSUV executive rule until the presidential term ends in 2019.

Outlook for operators

The current political situation will perpetuate economic problems and see inflation and limited access to dollars remain major difficulties for foreign companies operating in Venezuela. The IMF estimates inflation will rise to 720 percent this year, which will further depress consumer demand after a 141 percent increase in inflation in 2015. Meanwhile, government economic policy will reduce profit opportunities for companies. President Maduro has resisted price increases, fearing popular unrest, while introducing wage increases to keep pace with rising living costs. On 1 May the minimum wage was raised by 30 percent, the twelfth increase in three years.

The difficulties already faced by businesses in gaining access to dollars could worsen, further complicating the repatriation of profits and access to imports. Many foreign companies, including Ford, American Airlines and Schlumberger, have already withdrawn or limited operations in the country since 2014 due to challenges in obtaining dollars under a complex system of four tiered exchange rates. In late April Empresas Polar, the largest private company in Venezuela, suspended production of beer at four plants in the country after the government refused to release sufficient dollars for the import of barley. The government introduced a new, simplified foreign exchange system comprising two exchange rates, one of which is intended to float to meet market needs, in March. Although the measure could simplify exchange rates, it does not overcome the issue of continued dependency on the government for the purchase of limited supplies of dollars, which will see increasing quantities of bolivars trapped by strict currency controls, and make the import of parts and products more difficult. An inability to pay for imports and suppliers’ bills could also force operators to accrue high debts, increasing vulnerability to future legal action or penalties.

These economic challenges will be compounded by other obstacles in the form of electricity shortages, civil unrest and crime. Daily, four-hour electricity rationing was introduced in ten states in April and frequent blackouts threaten to harm productivity and increase costly reliance on back-up diesel generators. With levels of water at the hydro-electric Guri dam, which accounts for two-thirds of all electricity generation critically low, the situation will only improve with significant levels of rainfall over the coming weeks. In the absence of rainfall, operators could be hit by increasingly drastic power-saving measures such as fines for the over consumption of electricity and limits on production, as was seen during the 2010 electricity crisis.

Levels of civil unrest and crime are likely to remain high if not increase, creating logistical and security concerns for businesses. Ongoing shortages of basic goods, water and electricity and political divisions between government opponents and supporters will fuel unrest that could see protesters employ roadblocks and disrupt the movement of goods and personnel. High levels of crime are unlikely to be effectively tackled, with pervasive crime and kidnap threats set to remain a key consideration for the safety of staff and goods.

Venezuela also faces the prospect of a debt default, with USD 9.5 bn repayments due later this year and the low price of oil - upon which Venezuela relies for 95 percent of export revenues - significantly weakening budget revenues. The government has met its debt repayments so far this year by tapping into dwindling foreign reserves, but it will require a significant financial package from China or a dramatic turnaround in the price of oil on international markets to avoid a delay when the largest payments are due in October and November. The prospect of a debt default and subsequent asset seizures abroad will enhance political and economic pressure on Maduro that could see the president intensify nationalist economic policies, threatening remaining private commercial interests in the country. Maduro has in the past reverted to tighter government controls over the economy at times of political pressure, using economic emergency conditions to circumvent the legislature and recently warning that commercial facilities that have suspended operations could be nationalised.

A default would also accentuate the aforementioned economic problems already facing companies in Venezuela. The destructive combination of political paralysis and a deteriorating economic environment provides a negative outlook for operations across 2016, with any possible change to the presidency unlikely to alleviate the problems companies face this year. Given the difficulties of repatriating profits and complex legal procedures, businesses are not expected to entirely end operations in Venezuela but are likely to continue to reduce operations amid an exceptionally challenging economic environment.

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